Question

In: Accounting

On January 1, 2021, Ithaca Corp. purchases Cortland Inc. bonds that have a face value of...

On January 1, 2021, Ithaca Corp. purchases Cortland Inc. bonds that have a face value of $330,000. The Cortland bonds have a stated interest rate of 5%. Interest is paid semiannually on June 30 and December 31, and the bonds mature in 10 years. For bonds of similar risk and maturity, the market yield on particular dates is as follows: (FV of $1, PV of $1, FVA of $1, PVA of $1, FVAD of $1 and PVAD of $1) (Use appropriate factor(s) from the tables provided.):

January 1, 2021 11.0 %
June 30, 2021 12.0 %
December 31, 2021 14.0 %


Required:

1A - Bond fair value :
1. Calculate the price Ithaca would have paid for the Cortland bonds on January 1, 2021 (ignoring brokerage fees), and prepare a journal entry to record the purchase.
2. Prepare all appropriate journal entries related to the bond investment during 2021, assuming Ithaca accounts for the bonds as a held-to-maturity investment. Ithaca calculates interest revenue at the effective interest rate as of the date it purchased the bonds.
3. Prepare all appropriate journal entries related to the bond investment during 2021, assuming that Ithaca chose the fair value option when the bonds were purchased, and that Ithaca determines fair value of the bonds semiannually. Ithaca calculates interest revenue at the effective interest rate as of the date it purchased the bonds.

Solutions

Expert Solution

1.

Semiannual coupon = $ 330,000 x 5 % x 1/2 = $ 8,250

i = 11 % x 1/2 = 5.5 %

n = 10 x 2 = 20

PVA 5.5%, n=20 = [ { 1 - ( 1 / 1.055 ) 20 } / 0.055 ] = 11.9504

PV 5.5% , n=20 = ( 1 / 1.055 ) = 0.3427

Present value of the bonds = $ 8,250 x 11.9504 + $ 330,000 x 0.3427 = $ 98,590.80 + $ 113,091 = $ 211,681.80

Date Account Titles Debit Credit
$ $
Jan 1, 2021 Investment in Bonds Receivable 330,000
Discount on Bonds 118,320
Cash 211,680

2.

Date Account Titles Debit Credit
$ $
June 30, 2021 Cash 8,250
Discount on Bonds 3,392
Interest Revenue ( 211,680 x 5.5 % ) 11,642
June 30, 2021 No journal entry required 0 0
December 31, 2021 Cash 8,250
Discount on Bonds 3,579
Interest Revenue ( 211,680 + 3,392) x 5.5 % 11,829
December 31, 2021 No journal entry required 0 0

3. Fair value on June 30, 2021 =  $ 8,250 x [ { 1 - ( 1 / 1.06 ) 19 } / 0.06 ] + $ 330,000 x ( 1 / 1.06 ) 19 = 92,054.46 + $ 109,069.29 = $ 201,123.75

Fair value of the bonds on Dec 31, 2021 = $ 8,250 x 10.0591 + $ 330,000 x 0.2959 = $ 82,987.58 + $ 97,647 = $ 180,634.58

Date Account Titles Debit Credit
$ $
June 30, 2021 Cash 8,250
Discount on Bonds 3,392
Interest Revenue 11,642
June 30, 2021 Unrealized holding loss on Bonds Receivable 13,948
Fair Value Adjustment 13,948
December 31, 2021 Cash 8,250
Discount on Bonds 3,579
Interest Revenue 11,829
December 31, 2021 Unrealized Holding Loss on Bonds Receivable 24,068
Fair Value Adjustment 24,068

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